The Two-Step Debt Tango

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Given the back-and-forth movements between the Democrats and the Republicans as to solving the pending debt ceiling crises, you can almost say it’s become a ‘two-step’ tango dance, going back and forth. The major problem is that this bickering by our elected lawmakers happens to be going on when the economy is at risk of slipping into another murky recession. It nearly stalled in the first six months of the year, as economic growth was feeble at best in the second quarter and practically non-existent in the first. Combined, the first half of the year amounts to the worst six-month performance since the Great recession officially ended in June 2009. Add to those problems the uncertainty fanned by the political stable mate in Washington, with Republicans refusing to raise the federal government’s $14.3 trillion borrowing limit unless Democrats agree to deep federal spending cuts on the GOP’s terms. Keep in mind that without an agreement, the Treasury department says, the government won’t have enough money to pay its entire bill after this Tuesday, August 2. It’ll also have to cut spending by some 40 percent and choose which programs and beneficiaries receive money and which don’t. With both parties still fumbling towards a common ground, both Washington and Wall Street will be spending the next 72 hours watching the clock toward the deadline of midnight this coming Tuesday.

As we debate the ongoing battle going on Capitol Hill, it was somewhat ironic that it was pointed out late this past week that Apple Inc. has more cash Uncle Sam. As the government struggles to reach an agreement on raising the debt ceiling, the U.S. Treasury’s cash balance is currently at $74 billion as of this past week. That’s less than the $76 billion that Apple now has in cash. However, I wouldn’t be getting my hopes up that the government would grovel to Apple Chief Executive Steve Jobs for help. One of Apple’s reasons for keeping such a giant cash stockpile is very well related to worries about the stability of the U.S. government finances as we move forward. For now, Apple will have to be content with being the second-largest company in the world by market value, just slightly behind Exxon Mobil. But stay tuned, as things could change in the near future.

The Dow Jones Industrial Average fell by over 537 points last week, or 4.24%, which was its worst week in percentage terms since July 2, 2010. The tech-laden Nasdaq gave up 102.5 points, or 3.58%, to end the week at the 2,756.38 mark. Meanwhile the Standard & Poor’s 500 index gave up 52.74 points, or 3.92%, and now sits at the 1,292.28 level. Worse still were the smaller-cap stocks as represented by the Russell 2000, which was down by a miserable 5.3 percent. The weakness across the board last week can no doubt be attributable to the growing concerns about our lawmakers ability to come to an agreement on the U.S. debt ceiling. And as we’ve already mentioned, the subsequent downgrade of U.S. credit by one of the ratings agencies, which could materialize even if a debt agreement is reached, would be cataclysmic.

For the month of July, all the major indexes were lower and were down as follows: the Dow, down 2.2 percent; the S&P 500, down 2.1 percent; the Nasdaq, down 0.6 percent; and the Russell 2000, down 3.7 percent.

On a year-to-date basis, the major indexes are still surprisingly to the positive side. The Dow is up 4.9 percent; the S&P 500, up 2.8 percent; the Nasdaq, up 3.9 percent; and the Russell 2000, up 1.7 percent. A moral victory to say the least!

Given all the downward pressures of last week, it was ironic that corporate profits are continuing to put up stellar numbers. With more than 300 companies, or about 66% of the Standard & Poor’s 500 reporting, 72%, or 239, have beaten their estimates, according to Capital IQ, a provider of financial data and analytic. Eighty-five percent of technology companies reporting have exceeded estimates, while 74% of consumer-discretionary companies have topped their expectations. If things continue to go this well, it will be the seventh straight quarter of double-digit earnings-per-share growth for the S&P 500.

Treasury securities continue to see prices soar and yields plunge even with the threat of a country default or downgrade from our top triple-A credit rating. Yields plummeted this past Friday to their lowest levels of 2011, with some maturities falling to levels not seen since last November. The benchmark 10-year note yield ended at 2.795%, the lowest sine November 30, 2010. The long end of the market lagged, given the fiscal uncertainties in the decades ahead; the 30-year bond yield fell to 4.128%. On the shorter-end of the maturity curve, the two-year note now at 0.356%, which is just a couple of basis points from its record-low. Keep in mind that the two-year note is a barometer of anticipated future monetary policy. After last week’s dreadful GDP data, expectations of an eventual increase by the Federal Reserve for the federal-funds rate are now put out beyond next year, and are pointing all the way into 2013, according to the futures market.

In closing, keep in mind that there will no doubt be more volatility in the equity markets, if some sort of deal isn’t reached by our lawmakers by the August 2 deadline. However, as we’ve seen in the past, further selling in the stock market could become the catalyst to a compromise if one is not reached in due time. As such, this weekend will be a very important one in Washington, as the two sides of the aisle will presumably be working towards some sort of compromise. Let’s just hope that they’ll be some resolution soon! Until next week, take care!

Sources:Barron’s, Wall Street Journal, Associated Press, Econoday, Gorilla Trading, Dow Jones & Company,


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